knowledge 18 July 2022 |

Compromise reached on AIFMD II: Five Key Developments (Updated 29 March 2023)

Background

On 25 November 2021, the European Commission (the “Commission”) issued a proposal for AIFMD II in the form of a draft directive. The Commission stated that while AIFMD works well in principle, some targeted changes were needed to better integrate the market for AIFs to ensure investor protection and better monitor risks to financial stability. In addition to amendments to AIFMD, the Commission’s proposal contained consequential amendments to the UCITS Directive.  

The Council has come to an agreement, set out in the Compromise Text, on a number of revisions to the Commission’s proposal. These revisions reflect the Council’s focus on the areas of delegation, loan origination, liquidity management tools (“LMTs”) and depositaries.

1. Delegation

A key development in the Compromise Text is the inclusion of delegation reporting within regular supervisory reporting requirements for AIFMs and UCITS ManCos³.

The Commission had originally proposed that detailed reporting obligations should be contained in regulatory technical standards (“RTS”) which would be developed at a later stage. However, the Council has stated that reporting on delegation arrangements needs to be clearly detailed in the text of AIFMD II, while RTS should be limited to setting an appropriate level of standardisation.

The Compromise Text states that ESMA will draw on reporting obligations of AIFMs and UCITS ManCos to competent authorities and analyse this data. The results will feed into ESMA’s report analysing market practices regarding delegation.

2. Loan Origination

AIFMD II will introduce common minimal rules for loan-originating AIFs. The Council has made a number of revisions to the minimal rules proposed by the Commission. These revisions are further detailed in the table below.

 

Loan-Originating AIFs
New Definition of ‘loan origination’	The Compromise Text now defines ‘loan origination’ as the granting of a loan by an AIF ‘as the original lender’.
Originate-to-distribute	The Compromise Text prohibits AIFMs from managing “originate-to-distribute” AIFs.
New Exception for Shareholder Loans	Member States may determine that policies, procedures and processes for the granting of credit and assessing credit risk shall not apply to the origination of shareholder loans, provided that those loans satisfy certain conditions. A “shareholder loan” means an advance on current account granted by an AIFs to an undertaking in which it holds directly or indirectly at least 5 % of the capital or voting rights and which cannot be sold to third-parties independently of the capital instruments held by the AIF in the same undertaking.
Leverage Limit	A new Article 4aa provides that ‘An AIFM shall ensure that the leverage of a loan-originating AIF it manages represents no more than 150% of the net asset value of the AIF’. Leverage is calculated in accordance with the commitment method. Borrowing arrangements which are temporary in nature and are fully covered by contractual capital commitments from investors in the AIF will not constitute leverage for the purposes of this limit. Furthermore, the calculation of leverage by reference to the commitment method may provide some comfort given that this methodology factors in certain netting and hedging positions in relation to derivatives. This leverage limit also applies to AIFs that gain exposure to a loan through a special purpose vehicle which originates a loan for or on behalf of the AIF or AIFM in respect of the AIF. Member States may determine that this leverage limit shall not apply to AIFs where the AIFs’ lending activities consist solely in originating shareholder loans, provided those shareholder loans satisfy certain conditions. Member States may also impose stricter leverage limits at national level to AIFs marketed to retail investors.
Retention Requirements	The Compromise Text provides that an AIFM must ensure that an AIF retains for two years from the signing date or until maturity (whichever is shorter), 5% of the notional value of the loans it has originated, or purchased from a special purpose vehicle which originates a loan for or on behalf of the AIF or AIFM in respect of the AIF, and subsequently sold to third parties. Certain exceptions from this retention requirement are provided for, such as EU sanctions or breach of investment restrictions outside the control of the AIFM.
Closed-ended Structures	The Commission’s original proposal had introduced a requirement that loan-originating AIFs should be structured as closed-ended to avoid maturity mismatches. The Compromise Text now provides for certain exceptions to this requirement where loan-originating AIFs offer redemption possibilities given its investment strategy and based on a liquidity management system that minimises liquidity mismatches and ensures investor fair treatment. The Compromise Text states that ESMA shall develop RTS to determine requirements with which a loan-originating AIF must comply to maintain an open-ended structure.
Transition Period	A grandfathering period (currently set at five years) is included in a new Article 61(6) for loan-originating AIFs that have been constituted before the adoption of AIFMD II. In addition, loan-originating AIFs constituted before the adoption of AIFMD II and that do not raise additional capital shall be deemed compliant.
National Requirements	The recitals to the Compromise Text make it clear that AIFMD II loan origination requirements do not prevent Member States from setting national frameworks with more restrictive rules for certain categories of AIFs. In addition, the Compromise Text states that Member States should be able to prohibit loan-origination to consumers.

3. LMTs

The Commission had proposed that AIFMs and UCITS ManCos when determining an appropriate set of LMTs should choose at least one LMT from the list of LMTs⁴. However the Council has revised this requirement to provide that AIFMs and UCITS ManCos shall select at least two LMTs (in addition to the possibility to suspend redemptions and activate side pockets).

By way of derogation, the AIFM or UCITS ManCo of an open-ended AIF or UCITS authorised as a money market fund may select only one LMT from the list of LMTs.

The Commission had proposed that AIFMs and UCITS ManCos should be required to notify competent authorities when a decision is taken to activate or deactivate any of the listed LMTs.  However, the Council has amended this requirement to require notifications only for the (de)activation of the suspension of redemptions, redemption gates and side pockets. The Compromise Text does allow for Member States to require additional notifications to competent authorities in respect of other LMTs, if they deem it appropriate.

The Compromise Text now provides that ESMA should issue guidelines determining the criteria for the selection and use of appropriate LMTs.

4. Depositaries

The Compromise Text revises the original Commission’s proposal in respect of depositaries to make it clear that those provisions do not constitute a form of “depositary passport”. On this basis, the Compromise Text provides that an authorisation to procure depositary services located in other Member States should not be automatically granted. An AIFM needs to provide a “motivated request” to demonstrate a lack of depositary services and the national depositary market of that AIFM must satisfy certain conditions. Competent authorities should grant their prior approval based on a case-by-case assessment.

5. AIFM Permitted Activities

The Compromise Text now also clarifies that AIFMs may carry out any other ancillary service where that ancillary service represents a continuation of the services already undertaken by the AIFM and does not create conflicts of interest that could not be managed by additional rules.

Comment and Next Steps

The Compromise Text will form the basis for trilogue negotiations between the Council, the European Parliament and the Commission in order to agree a final version of AIFMD II.   

Update 29 March 2023: The initial positions of the Council, the European Parliament and the Commission in advance of trilogue negotiations on AIFMD2 are detailed in a Council information note dated 28 March 2023 (here).